Petra Diamond's (PDMDF) CEO Johan Dippenaar on Q3 2016 Trading Update Call (Transcript)

| About: Petra Diamonds (PDMDF)

PETRA DIAMONDS ORD (OTC:PDMDF) Q3 2016 Trading Update Call April 26, 2016 4:30 PM ET

Executives

Johan Dippenaar - Chief Executive

David Abery - Finance Director

Analysts

Des Kilalea - RBC

Chris Welch - Pareto

Edward Streck - BMO

Nick Hatch - Canaccord Genuity

Alison Turner - Broadhurst Mining Research

Edward McAfee - Atlantic

Ian Harris - Barclays

Operator

Ladies and gentlemen, thank you for standing by. Welcome to the Petra Diamonds Conference Call to discuss Q3 for year 2016 Trading Update. Throughout this call all participants will be in a listen-only mode and afterwards there will be a question-and-answer session. Just to remind you, this call has been recorded. Johan please begin.

Johan Dippenaar

Good morning, ladies and gentlemen and welcome to the call. We will be discussing our quarter three trading update today and I will first cover production, sales and health and safety for the third quarter of financial year 2016, being the three months to March 31, 2015, before handing over to David who will provide an update on our balance sheet and debt facilities. So turning to the highlights, production was up 26% on the comparative quarters to 995,000 carats, being favorably impacted by production from the newly acquired Kimberley Mines operation. I will come onto this in more detail shortly. So this brings production for the nine months to of March 31st to 2.6 carats.

So due to the higher levels of attributable production from Kimberley Mines than the regularly visit, we have therefore revised our production guidance for the full year from 3.3 million to 3.4 million carats to a range of 3.6 million to 3.65 million carats for the full year June 2016. We likewise remain on track for our long-term target to reach 5 million carats by financial year 2019.

So quarter three revenue was up 25% to $120.5 million, due to increased sales volumes, as well as the sale of the 32 carat pink diamond from Williamson during the quarter for $15 million. So as you recall, Petra will receive a further 10% of the value uplift of the polished ones that is sold. So this was the second significant pink diamond from the Williamson that we have sold this financial year and obviously bodes well for the mine as we look to ramp up our tonnages at Williamson over the next 18 months.

In terms of sales, carats sold increased 13% to $937,000 carats, further to the increased production volume. You will note due to our inventory levels, that our inventory levels are slightly higher than usual, and this reflects the higher production volumes, especially at Kimberley and the fact that our second Williamson tender for H2 did not take place until just after the end of quarter three. Our expansion programs, including the new Cullinan plant have remained on track and in line with the expectations, and we will provide further color on that in our full year trading update on July 25, 2016. I won't cover the financial points in the highlights as I'll be handing over to David towards the end of the call.

So trading, return to the operations. So Finsch continued to have a very solid quarter with both the run on mine throughput and grade in line with expectations leading to a 3% increase in production 530,000 carats. Cullinan production increased 14% on the comparative quarter to 190,000 carats, and this is on track to reach its guided run of mine tonnage throughput for the year of 2.3 million tons.

So following the low of 20.9 carats per hundred-ton reach at Cullinan a year ago, we are pleased that a run of mine grade has continued to improve quarter on quarter at the mine ever since then, and it reached 30.5 carats per hundred ton in quarter three. So this bring run of mine grade for the year-to-date to 27.2, meaning that for the full year it is expected to come in between 28 and 30 which is just below management guidance of 31 carats per hundred-ton for the full year.

So as I noted, the expansion plans at both Finsch and Cullinan remain on track and the new mining areas have therefore commenced contributing on diluted all through the new production. Although this new production is limited to restricted areas off the ore body for the time being. So as we stated before, the Company remains in a transitionary period as we deal with ever higher levels of dilution from the old mining areas, and whilst we ramp our production in the new areas. So we have therefore flagged in the announcement that variability in both grade and product mix can still be expected whilst in this period.

This is particularly the case at Cullinan until we reach H2 financial 2017, the January to June 2017 period, at which point a higher percentage of the mines production will come from undiluted ore and the benefits of the new processing plant will be realized. In the case of Finsch, the

variability is generally about expectations, especially in terms of the product mix. At Koffiefontein, production rose 3% to 16,376 carats, further to the continued ramp up of the new underground sub-level cave and we are on track to reach the revised run of mine throughput level of just under 700,000 tons for the full year 2016.

So at Kimberley, production includes both run of mine production from the Kimberley underground operations, and the tailings retreatment from the Kimberley Ekapa Mining consortium, meaning that production at this unit increased to 202,800 carats and I’ll provide a bit more color on this in just a moment.

Finally, Williamson production decreased 2% to 56,000 carats, due to slightly lower run of mine grade of 5.1 carat per 100 ton for the period, as production was affected by seasonal rainfall, which impacted the Company's ability to access the optimal tonnage blend from the open pit operation that we are conducting at Williamson.

So now I’ll give you a bit more color on the Kimberley mines transaction. So as you may remember, Petra acquired a 49.9% interest in the Kimberley mines assets from De Beers along with the its partner Ekapa Mining, who holds 50.1% interest in the assets acquired from De Beers. Since this time Petra and Ekapa have ended entered into negotiations with a view to combining the respective operations owned and operated by the consortium members in the Kimberley area, namely the Petra's Kimberley Underground operations, the Ekapa Mining's tailings operations that we acquired from De Beers and Ekapa's current tailings operation. So this will include the central treatment plant, which is a modern plant currently treating around 6 million ton per annum, and we will be looking at setting a higher level of throughput in the coming years at this facility.

So the negotiations on this combination now at an advanced stage and so this joint venture is earmarked to become effective during quarter one financial 2017, that is the July to September 2016 period. The proposed joint venture is expected to bring significant synergies to the operations at Kimberley, with the opportunity to increase throughput and reduce operating costs, thereby extending mine life to the benefit of all parties. So we will provide further information on the final business combination in our July Trading update announcement. It's safe to say we are excited about our partnership in Kimberley, given the potential for long term sustainable operation to the benefit of employees and the local communities around the mine.

Now going to the health and safety section, with regards to health and safety, we recorded LTIFR of 0.33 for the quarter, which is likely above the 0.26 that we achieved in the comparative quarter. So this remains a reasonably good performance in the contacts of the high level of contraction activities currently underway and in general for underground operations. But we will never cease to strive towards our zero harm work environment and we are continuingly evaluating and improving our systems and processes with an aim of achieving this.

So coming to the Diamond Market, as we noted in the announcement, the steps taken by the major diamond producers in late calendar 2015, namely reduced supply, lower rough pricing and increase consumer marketing, we have enabled the market to start calendar 2016 on a noticeably firmer footing, with good sales demand from the mainstream of the diamond pipeline. Rough pricing achieved by Petra on a like-for-like basis therefore up circa 3.5% in quarter three, as compared to our pricing in H1 financial year 2016. So however, we would caution that January to April is seasonally the strongest time of the year for the rough Diamond Market, as it is traditionally the period for the mainstream and downstream to restock after the core festive retail selling season.

So we would therefore remain cautious with regards to diamond pricing and continue to use the pricing levels achieved in H1 financial year 2016 in our internal business modeling for the balance of our 2016 financial year. So as mentioned earlier, the Company will remain susceptible to variances in product mix at its underground mines, as production shifts from the old, diluted mining areas to the new mining areas over the next 12 months.

So this then concludes this section of all the call this morning. And now I'll be handing it over to our Finance Director, David Abery.

David Abery

Thank you, Johan and good morning everybody. As you can see from the table provided towards the end of the announcement, our balance sheet remains in good shape. We had captured bank at 31 March of $39 million, diamond inventories are $54 million and diamond debtors of $46 million. These debtors at the end of the quarter relate to diamond sales that concluded a day or two after the period end at which point -- or before the period end I should say, at which point the cash would have come into our account shortly after period end. So you can essentially add those debtors now to our cash or net debt balance.

Bank loans and borrowings of $126 million and net debts of $395.6 both higher than the previous quarter. It is important to note these figures remain in line with our plans and expectations and the numbers that we previously flagged to the market and we're now into our fourth quarter of our peak year of capital spend. We have stated in the announcement that we're forecasting to reach peak debt levels during the period June '16 to March '17 after which our debt will start decreasing in line with the decreasing CapEx profile and that forecast increase in operating cash flows.

We forecast to maintain a healthy minimum headroom during these nine months or so of peak debt, in the region of 1 billion to 1.4 billion rand and we say in the region because during that nine-month period it does vary somewhat from month to month depending on tender timing, and we therefore remain well funded for the completion of our expansion programs. CapEx is forecast to start reducing from half two FY17, that is from January 2017, due to the advanced stages of our underground development projects, as well as the commissioning of the new plant at Cullinan. At the same time, as we flagged before, in line with our guidance, operating cash flow is forecast to start very significantly as we mine higher contributions of higher grade undiluted ore, as well as at the same time recovering a better quality diamond mix due to the higher proportion of the raw [ph] production versus tailings as well as of course to the higher average quality of diamonds expected to be recovered from the fresh undiluted mining areas.

You're also seeing the announcements that as previously flagged, we were in the discussions with our lender group and with regards to our senior lender facilities, and we are pleased to announce that it's been agreed that our EBITDA related covenants measurements have been revised or indeed relaxed for the next two measurement periods, and the book equity covenant measurement has been revised for the next three measurement periods. The detail on this information is clearly set out in the table and the announcement. I won't read it out but this should serve to alleviate any market concerns with regard to our senior lender banking covenants. I'd also like to add and we've said this before, we have excellent relationships with our lender group, who got to know our business very well over the years. So we're delighted that they have continued to show their support for Petra in this way of relaxing these key covenants.

I'll now hand back over to Johan and we'll take questions. Thank you very much.

Johan Dippenaar

Thank you, David and so we're ready to take any questions anybody might have.

Question-and-Answer Session

Operator

Thank you. [Operator Instructions] And the first question comes from the line of Des Kilalea from RBC. Please go ahead, Des. Your line is open.

Des Kilalea

Just a question on the market, if I may. Johan, are you able to throw any light on what your clients are saying about in demand China? I'm just trying to get an update. Honestly, also just maybe to explain your caution for the second half of the year, is it mainly just due to the summer period being slow and do you expect it to pick up in the second half of the calendar year?

Johan Dippenaar

So the market that we're experiencing now and the feedback from our clients, it's sort of like quite difficult to hold back and not start having a bit of positive feeling about the market, but I think it's in order to rather remain cautious. So the feedback that we have is that the news out of China is somewhat conflicting at the moment, if things are picking up again. But definitely over the next say 6 months or so, we will probably have start some restocking as their retailers have on record and also by activity in the market been very cautious in buying. And then also there is reason to be optimistic about India, in the sort of like next year or two, especially if they can maintain the current type of economic growth that they have been registering and the reforms that the government is trying to enact. And the U.S. market is remaining stable. So we rather are on the cautious side and think that differently in our third quarter, January to March next year would probably at the latest be able to call with more accuracy where the market is standing. So, hence our announcement today of keeping on using the pricing levels as of the end of H1 for our internal planning and revenue and profit expectations.

Operator

The next question comes from the line of Chris Welch from Pareto. Please go ahead, Chris. Your line is open.

Chris Welch

Just a couple of questions from me. Could I just ask about the grade at Koffiefontein? We have got [indiscernible] diluted mining areas and the grades have dipped slightly compared to the previous quarter on my numbers. I just want to know what's going on there in terms of feeding the undiluted ore into the plant? Are there any issues we should be expecting in the next quarter or is it just to ramp up sort of? And also on Williamson, the seasonal rainfall, are we expecting an impact to that on the next quarter as well?

Johan Dippenaar

Chris, the grade at Koffie, when we start a new SLC like we did there, you are in a smaller area, or covering a smaller area across the footprint of the orebody. So you are just susceptible to some variations. And over time, as the new SLC is being further develop, you access bigger and bigger -- the orebody there is over three hectares in size. So it's quite a large surface area, and once you've accessed the better representative area of that orebody's footprint, then you have more state in this in the grade. So it's not a -- it's just like some variability that we will experience as we develop these new areas.

At Williamson, it is the seasonable rain period is over now, and at Williamson we are mining very large 146-hectare open pit operation, and the mine plant calls for blend across the footprint of the orebody to manage clay content, grade, etcetera, etcetera. And so when it rains, you don’t have access over the whole footprint. Again, it is not something that we regard as a permanent feature and as we -- part of our plan to bold the production over the next 12 months or so will retain a overall -- or will delivering milling [ph] circuit, which will again put us on the position to better maintain grades. So it's again just a temporary issue and you can see it wasn’t by a big percentage. So this will turnaround in the coming quarter.

Operator

The next question comes from the line of Edward Streck from BMO. Please go ahead, Edward. Your line is open.

Edward Streck

So just a question on the combination of Kimberley assets. Just at the moment or previously on Kimberley underground, you've had your BEE partner in the -- with regards to the guidance, I presume that that's attributable to Petra. Is the Petra plus the BEE partner? And would you look going forwards on the combination of assets to have the same BEE partner in as currently?

Johan Dippenaar

Yes, Ed, your assumption is correct. So that 75 odd percent is including our BEE partner.

Edward Streck

And then on the combination of the assets, presumably that BEE partner would be maintained as well and does Ekapa bring out the partner as well?

Johan Dippenaar

Ekapa is already regarded as a blackened [ph] company. It's more than 50% owned by [indiscernible] South Africa. But of course we on the outside maintain our share trust with our employees and our commercial BEE partners. So yes, as we finalize it, they will remain parties to the agreement and the final extent of that business combination that we are targeting, like is it just a few short months away now from hopefully concluding that successfully and then we will have total trans -- no not transparency but we will have exact numbers that we will be able to provide to market with our trading update in our guidance in July -- July 25th.

Operator

The next question comes from the line of Nick Hatch from Canaccord Genuity. Please go ahead, Nick. Your line is open.

Nick Hatch

I've got two questions. First of all, just following up on Ed's. In your Appendix B, where you've got the production guidance for Kimberley Ekapa, it's all despite [ph] attributable production. Can I just confirm that 400,000 carats that you're talking about there is inclusive of your BEE partner? That's the first question. And secondly, just looking at your sales in South Africa, I think your second tender closed on March 31st. Can you just confirm, was all of the revenue from those tenders within that $120.5 million revenue figure that you've quoted for Q3 or some of that come into the Q4 number?

Johan Dippenaar

So firstly, just as appendix B, so we have posted H1 results. So this appendix B, this table replaces whatever we had for H2 for Kimberley underground is replaced by this in total. So this is all the numbers that accrues to better side, excluding Ekapa which includes our BEE partners. So I just want to -- just remind me Nick, the second part of your question, the sales.

Nick Hatch

Yes, your second tender in South Africa I think finished on March 31st, or at least that's the date on your website. I'm just wondering, all of the revenue from those tenders, was that included within the $122.5 million of revenue you've quoted for Q3 or some of that actually appear in Q4 revenue numbers?

Johan Dippenaar

Everything -- all the sales that we concluded is included in this table and of course there have been additional sales now, additional to sales during this quarter.

Operator

The next question comes from the line of [Indiscernible]. Please go ahead. Your line is open.

Unidentified Analyst

Most of my questions have been answered, although there is still one I'd like to ask on your CapEx for fiscal '17. You mentioned that CapEx will drop the meaningfully from Jan '17, but what's your full budget for fiscal '17, please?

Johan Dippenaar

So our CapEx spend for the 2016 financial year, which is now nearly over is ZAR3.5 million to ZAR3.7 million and around ZAR2 billion for the full year 2017 -- June 2017. So you can see it decreases substantially. Probably the larger percentage will be spent in our H1 and then during our H2 2017 we'll have a very much reduced and ever reducing CapEx spend over the coming quarters once we get to H2 2017.

Unidentified Analyst

Okay. Any comments you can offer on your potential dividend payments or not? Where do you stand on that?

Johan Dippenaar

The board will only consider dividend payments with the conclusion of our June '16 results which is during September. So there is nothing I can add to that at this point in time.

Operator

The next question comes from the line of Alison Turner from Broadhurst Mining Research. Please go ahead. Alison your line is open.

Alison Turner

A quick question on Cullinan on pricing. You noted with this quarter's pricing that the product mix had been a little worse and handful of prices. I guess I just wanted a little bit more color on that, because you also do mention that you expect that variability to continue. Is it a question of slightly smaller current? Is it a size frequency? Is it a question of -- mostly just because in the diluted ore, or was it part of the ore body that you're mining from? And just give me a little bit more of a sense as to why that is happening and how you see it going forward. It will be variable, but how you see it going forward?

Johan Dippenaar

Okay so Alison it just -- like I said, just following onto what I said earlier. So when your mine plan will access an areas five hectares, and you currently say maybe having an area of even less than half a hectare that you actually think because you're busy building up. It is just -- you're just susceptible to some variations. So at Cullinan, it's mostly to do with the -- if you will remember over the years, Cullinan's without special sale in this region of $100 to $125 a carat. So generally not the highest quality overall, large volumes and generally commercial quality, but then the difference comes in, you could have single sales going for $180 say for instance, because the future of Cullinan ore body is that on top of producing these very special larger stones and blue stones, it produces them from time to time, extremely high quality 30 to 130 carat stones. That sells for $1 million, $2 million, $3 million, $4 million. So it doesn't count as a special. It's just part of the normal run of mine. But you can imagine the occurrence is not the same as the smaller commercial goods. It comes and goes all the time. So that is the explanation for that.

Alison Turner

Absolutely. So obviously one can note the absence of those really exceptional specials and clearly by their nature they are exceptional, but what you think is -- but what you're missing at the end of particular period is also just kind of one level below that, where they wouldn’t full into the kind way you would report them individually as done. But nevertheless, quite a big difference on the average pricing?

Johan Dippenaar

That’s correct. And you can see then from the average going from 110 in the first half to 90 something, but then again it can just a yearly jump back up to 125 or 130. But just note that you are not always on the wrong side of this variability. You will see there from the pricing at Finsch, it is -- if you take our guidance of 94, less 10% in the market, we should be running around 85 or so. But you can see it's running strongly in the 90s because the improved product mix as we go out of the -- or start getting the first bits of [indiscernible] mining and SLC tunnel development. And this like given us a -- that mix profile came back quicker there than what expected. But this is just the nature of these orebodies.

Operator

The next question comes from the line of Edward McAfee from Atlantic. Please go ahead, Edward. Your line is open.

Edward McAfee

I have just one question on the debtors. Well. two questions. What portion of debtors was reclaimed after the fact in the last -- you mentioned earlier that some of the debtors were reclaimed after the fact and some calculation on the results? And how long is the debtor collection period on average? And could you give any information on the percentage of bad debt? Thanks.

David Abery

Edward, yes, when I was covering that on the call, so our March tender finished right at the yearend. So that’s why we have that higher debtors number than normal. The other period that we have a high debtors number is June. Those debtors would have been received -- up to the majority of them would have been seven to 10 days after the period end. So in early April. And a small percentage would have taken a few days longer than that, two weeks' maximum and there is no bad debt. We don’t get bad debts ever, because we never release goods to a person until we're paid. And with one exception I can think all in 10 years, we haven't been paid then we've had a return of goods. So no bad debts and or cash received about maximum two weeks after period end.

Operator

And the next question comes from the line of Ian Harris from Barclays. Please go ahead. Ian your line is open.

Ian Harris

Just wanted to go into a bit more details on the Cullinan sort of operating performance. It looked like your throughput on the ROM side quite a bit versus the second quarter. Obviously I understand that you use sort of reducing throughput to prioritize the grade, but it looks like you've sent a little bit more tons through the tailings plants. If you can maybe just provide a bit more details of what you actually on the operational onside?

Johan Dippenaar

Ian, I’ll have to check your comment that the tons were lower I mean. We have on the targeted just over 2 million tons for the year at Cullinan, in line with not chasing too much of the diluted material. So our production is in this sort of like 570,000 to 600,000 per quarter. But we'll get back to that but I think this is -- the tonnage is in line and our comment is the same.

The tailings is now -- just a sort of like quite a bit of variability to that now because whenever we have a bit of opening in plant capacity, we're a little hemmed in with plant capacity in the old plant, then we put through some tailings and we -- for the period just you will see a little bit of a spike but it's on slow volumes of diamonds in the tailings grade, but that was just due to some recovery tailings that was treated through the -- in the tailings final recovery causing that little bit of a spoke there. So as far as we have it, is that we'll keep on seeing this around 570,000 to 600,000 tons per quarter from Cullinan, until the new plant is commissioned during H2 of 2017.

Ian Harris

Okay thanks. Then, I’ll follow up offline. Then just on your variability comment, you've mentioned that a couple of times in the release. Can we assume that your sort of 38 CPHT guidance for next year then is probably a bit high?

Johan Dippenaar

For Cullinan?

Ian Harris

Yes.

Johan Dippenaar

I would prefer to wait for the July guidance, as we're now going through that process of finally -- finalizing our mine plan for 2017 year. And then only once that is finished, would I be able to say if that is a dress code, but suffice to say that we expect this upward trend to continue and it's just not the straight line. We try our best to calculate a grade consisting of ore predicable grade from the new areas with highly unpredictable grade from the diluted areas as they -- every year they become more and more diluted and our ability to predict grade becomes more difficult. So I would just prefer just having Charles to finalize our mine plans before commenting on the 2017 expected grade.

Operator

That was our final question. Now back to Johan for closing comments.

Johan Dippenaar

Thank you everybody for making the time to listen to the call today, and hope you all have nice day. Thank you.

Operator

This now concludes today's conference call. Thank you very much for attending. You may now disconnect your lines.

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